National Institute of Economic and Social Research

Thursday, 23 August 2012

Cut red tape to boost growth? Start with immigration

With the economy persistently weak, there is a
growing consensus among economists that premature austerity has done
considerable unnecessary damage, and that there is a strong case for slowing fiscal
consolidation - at least to restore some of the unnecessary and damaging cuts to
public investment (which have been the source of most of thedeficit reduction so far). However,
others have instead argued that the problem is not on the demand side,
but on the supply side, and that what is needed is a radical programme of
deregulation - "cutting red tape" - especially in the labour market.

The argument to focus on the supply side to boost growth is both wrong and right. It is wrong because in the short term, the main thing holding the economy back is lack of demand, the result of misguided macroeconomic policy, both here and globally (especially the eurozone). As the IMF put it it its latest report, upfront and in bold:

"The recovery has stalled. ...with current policy settings the pace will be insufficient to absorb significant slack in the economy, raising the risk of a permanent loss of productive capacity. Demand support is needed."

But just because the main short-term problem is lack of demand does not mean that we should not worry about the supply side. Indeed, almost all economists would agree that over the medium to long term, what really determines growth, jobs and prosperity is indeed the health of the supply side of the economy. So, even while recognising that they will not be a panacea in the short term, the ideas of the supply-siders should nevertheless be examined on their merits. Increasingly, they focus on the labour market. Liam Fox, for example, said:

"To restore Britain’s competitiveness we must begin
by deregulating the labour market. Political objections must be overridden. It is too
difficult to hire and fire and too expensive to take on new employees."

Subsequently, an independent report commissioned by the government from
Adrian Beecroft addressed Fox's point by proposing (in addition to some fairly minor changes) the
introduction of a form of no-fault dismissal. It was deservedly mocked (if you
haven't read Richard Lambert's brilliant parody, do so!). More generally, numerous more informed commentators (including, commendably, Vince
Cable,commentingon the report his own Department had commissioned) have pointed out that
the Fox/Beecroft line of argument is remarkably difficult to justify with any
actual evidence.

However, this didn't deter everyone: for example, Bruce Anderson argued that the government should implement
the Beecroft Report in full, because:

"rights without jobs are a mere mockery, and the excessive emphasis
on rights has deterred employers from taking on new workers, unless they are
Eastern Europeans, who proclaim their willingness to work with every molecule
of their being."

As I explain here, this is utterly ludicrous; perhaps
85% of new hires are British workers. In fact, overall the UK labour market has performed
extraordinarily well of late. Hiring - given economic conditions - is
surprisingly healthy, and employment is rising, despite weak or no growth .
Labour market economists, and international organisations like the OECD,
agree that three decades of successful reform have given the UK a flexible and
generally well-functioning labour market, by international standards. There
is no reason to believe regulation is
currently a significant barrier to job creation. This suggests that - while doubtless there are
improvements that could be made around the edges - there is little to
gain from further wholesale deregulation. Spain and Italy need radical labour market reform; we don't.

But that doesn't mean we should stop looking for areas where we could improve the supply side. And indeed there is one aspect of labour
market regulation where sensible deregulation is urgently needed, and could
genuinely boost UK growth. This is immigration. Now immigration rules are not generally what either economists or
policymakers think of when they talk about labour market regulation. But
of course restrictions on those who want to come here, or stay here, to take up
employment or to look for a job are exactly that: they are government
regulations that change the way the labour market functions. So the changes to
skilled migration introduced by the government - a set of new burdensome
and bureaucratic rules and regulations, including a quota on skilled migrants
- are new labour market regulations. Indeed, in contrast to almost all
other such regulations, which are at least designed with an eye to ensuring
that the benefits to employers and employees outweigh the costs, these changes
were designed expressly to make it more difficult for businesses to employ
the workers they want.

As a consequence, they will reduce growth and make us poorer. And
these impacts - áccording to the government's own estimates - are potentially
very large. As I said in my testimony to the Treasury Select Committee
after the 2011 Budget:

"The extra employment regulation that the
Government has imposed on employers wishing to employ migrant workers—the cap
on skilled migration—will, using the Government's own methodology, reduce UK
output by between £2 and 4 billion by the end of the Parliament."

This is not just be a result of the reduced size of the population;
since the regulations are designed to exclude skilled migrants, who tend to be more productive, they also
reduce average productivity and hence GDP per capita, as the Home Office Impact Assessment states. None of this is news to economists; most of us, wherever we are on the political spectrum, think that
well-functioning markets usually do a pretty good job of allocating resources.
That goes for the labour market too, so it is no surprise that liberal
(in the true sense of the word) immigration policies are good for the
economy, and restrictive ones are not. So simply reversing
the new regulations introduced by this government, let alone further
deregulation, could yield large gains. Moreover, in contrast to some other
policy changes that might promote growth, the fiscal impact would be positive,
not negative; the deficit would be some hundreds of millions of pounds
lower.

It is worth comparing these figures with the impact of changes to other
forms of labour market regulation. The government's proposed changes to
employment tribunals, for example, are designed precisely to reduce burdensome
labour market regulation (in the ordinary sense). But the official Impact Assessment estimates the
net benefit to be about £70 million per year; trivial by comparison.

More radical changes to immigration policy might have even larger impacts. A recent paper by one of the leading US researchers on the economic impact of immigration suggests that, looking across countries, the impact of openness to immigration on per capita income is large and positive - indeed, larger than the impact of openness to trade. They conclude:

"We interpret these results as consistent with the idea that immigration enriches the skill and idea variety of countries, increases their productivity and eﬃciency and, in the long run, it is an important contributor to their economic success."

So there is an obvious target for those commentators and politicians who
talk about freeing up the UK labour market. If they really want to cut
red tape, why not start with the red tape that directly prohibits
employers from hiring the skilled workers they want? If they want a more liberal, market-oriented approach to economic policy, why not reduce the most damaging and illiberal restrictions on the operation of the labour
market? And if they think that the UK benefits by being "open for business", then act in accordance with the evidence that to realise those benefits means being open to labour mobility as well as free trade and capital mobility.

Of course, changing course on immigration - even in the direction of
deregulation and free markets - is politically difficult for the governmnent.
But fully a year ago, the Chancellor argued:

"this crisis provides an opportunity to make some
difficult trade-offs in favour of growth that might get parked in the "too
difficult" box in calmer times."

This is surely exactly what he meant. Now that he's promised to
devote "110% attention" to boosting growth, this would be a good place to start.

15 comments:

As an aside, we mustn't assume that all "supply-side" reform involves deregulation. Other policies that are important to long-term growth, like promoting innovation and R&D or building infrastructure (which obviously has demand- and supply-side effects) matter too.

"the changes to skilled migration introduced by the government - a set of new burdensome and bureaucratic rules and regulations, including a quota on skilled migrants - are new labour market regulations"

Can you explain which changes you are referring to and what changes you would suggest to improve things?

Last year the quota was not reached and only half of it was actually used. So it did not prevent a single skilled migrant from coming to the UK.

The minimum salary increase to £20k p.a. was a bit controversial but at least it meant skilled migrants were getting above the "living wage".

The expectation that skilled migrants should fill jobs where at least 36% of people in the job are qualified to NQF4 (i.e. above A level but below HND level) did exclude chefs and care workers which cut numbers significantly and inconvenienced Indian takeaways and care homes across the country. Other than the drop in numbers in these two areas, the tier 2 general numbers are about the same as they were before the changes.

Making it more difficult for employers to bring in migrant workers will "make us poorer"?

What evidence is there to support that claim?

There is no evidence that immigration reduces unemployment or increases pay.

Migrants do increase GDP and may very slightly increase GDP per capita. However I think the current preferred measure is GDP per capita of the resident population, and there is no evidence that migrants make us "richer".

I also thought the general concensus was that the poorest lose out most and the richest gain most from increased immigration, so it increases the gap between rich and poor.

Thanks. I did have a quick scan of Peri's paper and I will read it in more detail.

I found the 3A graph on GDP per person v foreign born interesting. The countries with high gdp and foreign born per capita seem to be predominately oil producing countries like Qatar, United Arab Emirates, Saudi Arabia, Brunei, Oman, Kuwait and Gabon.

The high GDP is due to oil revenues and many of the immigrants are low skilled, low paid, poorly treated domestic workers, cleaners, cooks and construction workers from south asia etc. There are obviously also a lot of well paid western expats working in the oil industry.

It seems high GDP (especially as a result of oil production) may result in higher immigration.

I could not find a free download of Peri's paper on US Immigration and Productivity:Http://www.frbsf.org/publications/economics/letter/2010/el2010-26.html

It is interesting that it is productivity and income rises as a result of LOWER educated migrants. They fill the low paid jobs so Americans can fill higher paid work (e.g. supervising the migrants).

I imagine it is difficult to accurately measure total factor productivity when you are looking specificaly at states that have large numbers of legal and also irregular/undocumented migrant workers. I am not sure how Peri allows for that.

I read Peri's research that used evidence that in about 180 countries in 2000 there appears to be an association between the foreign born and income per capita. I would have thought it was more likely that immigrants are more attracted to wealthier countries, than countries are wealthier due to immigration.

There is the 'batting average effect' but that doesn't mean native born are wealthier due to immigration or will be poorer if there is less immigration.

Quite right. The UK can hope for a competitive advantage in global trade only in areas requiring skilled labour not everywhere available. To grow in those sectors we need more skilled labour. It doesn't make sense to operate a restrictive immigration policy that prevents us importing what we need. My proposal here.

The interesting thing (to me) about your suggestion, Paul B, is that you are asking for competitors to you to be allowed in, and very direct competitors, not just vaguely "qualified." Though I suppose you may be marginally better off competing with a bright Indian over here on British wages than the equivalent back in India on Indian wages (at least for now).